Navigating the UK Currency


DISCRETION - I didn't want to be in a position where Wednesday's UK earnings data was going to result in the Pound rocketing up well beyond our entry, leaving the market in position to keep running. At the same time, I have also spent a lot of time talking about this trade and the fact that I believe the next big move here should still be for a drop back into the 1.3600 area, before we talk about a continuation of this uptrend that has taken form over the past several months. And so, I did the best I could on Wednesday, stepping aside on the initial reaction to higher earnings, which saw the Pound jump back to entry, but then getting back into the trade, once it looked like things could settle down. Unfortunately, the market has since jumped up some more, but again, it doesn't change the outlook. Right now, heading into today's BOE decision, it feels like as far as GBP risk goes, we could be in a very good position to see the market trade lower. Here's why.

cartoon march 21

FUNDAMENTALS - When you break it down, the Pound has been an outperformer in 2018, second only to the Yen. All of this outperformance comes from a clearer Brexit path, improved outlook in the UK and BOE that is looking to ramp up policy normalization. So all of this sets an expectation that the Pound should continue to push higher. However, that is what has happened and that is where the market is at in terms of its thinking, which actually leaves room for some letdown. Already this week, there was some letdown after UK inflation readings came in softer than forecast, but this wasn't given much attention on account of the transition deal and rise in earnings. Still, the softer inflation data should not be overlooked and the optimism around the transition deal could be a little much when considering there are substantive issues that have yet to be worked out. This does leave room for disappointment and could set the stage for a pullback the market isn't expecting.

Positioning for a period of short term weakness in $GBPUSD

THE CHART - Technically speaking, the case for a more pronounced correction off the 2018 high is compelling to say the least. I have highlighted this many times and have shown how the market looks like it should head back down to rising bull channel support in the 1.3600s before it finally decides to put in a meaningful higher low and continue with the uptrend. Now, a lot of what happens will also come down to the Dollar side of the equation, with the market still trying to figure out what the Fed will do this year, what will be with US equities and how it will all play out with US administration soft Dollar policy. There have been signs of the Dollar wanting to make a bigger recovery run and we will have to see if the anticipated Pound weakness comes more from broad based US Dollar demand, or a renewed negative sentiment towards the Pound, or both. Let's see how it plays out.

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